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Gazit-Globe Ltd. (NYSE:GZT)

Q2 2014 Earnings Conference Call

September 2, 2014 10:00 AM ET

Executives

Dori Segal – Executive Vice Chairman

Roni Soffer – President

Gil Kotler – Senior Executive Vice President and Chief Financial Officer

Analysts

Tavy Rosner – Barclays Capital Israel

Cathy Schneidman – Citibank

Operator

Good day and welcome to the Gazit-Globe’s Q2 2014 Earnings Conference Call. Today’s conference is being recorded. (Operator Instructions) A question-and-answer session will be conducted at the end of the presentation. (Operator Instructions)

At this time, I would like to turn the conference over to Mr. Itay Banayan. Please go ahead, sir.

Itay Banayan

Thank you, Darren, greetings everyone and thank you for joining us today. With me on the call are Dori Segal, our Executive Vice Chairman; Roni Soffer, our President and Gil Kotler, our Senior Executive Vice President and CFO. The presentation that will be used in today’s call and the interim financial statements can be found on Gazit-Globe’s website at www.gazit-globe.com.

Before we get started, I would like to remind everyone that some of the statements today may be forward-looking in nature. Although we believe that such statements are based upon reasonable assumptions, you should assume that these statements are subject to risks and uncertainties, and actual results may differ materially from those expressed, or implied in these forward-looking statements, additional information about the risks and uncertainties that could cause actual results to differ may be found in our latest financial statements and our filings with the Israel Securities Authority, the U.S. Securities and Exchange Commission and on SEDAR operated by the Canadian Securities Administrators.

Statements made during the call are made as of the date of this call. Facts and circumstances may subsequently change, which may limit the relevance and accuracy of certain information discussed. Except as required by applicable law, we undertake no obligation to update any forward-looking or other statements made herein, whether as a result of new information, future events or otherwise.

With that, I would like to turn over the call to Roni. Roni, please.

Roni Soffer

Thank you, Itay. Good morning or good afternoon everyone, and thank you for joining us today. First, I would like to apologize for filing our financial report this quarter later than usually. The course for the delay was the recent event at Dori Group, which Dori Segal, our Vice Chairman will discuss more fully in the remarks. We have concluded a positive quarter for the Group’s core activity with strong growth in FFO and FFO per share. We continue to reduce our leverage, increase our liquidity and strengthen our balance sheet, while improving the quality of our portfolio in the market in which we operate.

Same property NOI grew by 1.5% in the first half of 2014 and the average occupancy increased to 95.4%. As I mentioned in the past, this figure should be best measure on annual basis. On the liquidity front, there is this eye on the NIS11 billion on the Group levels, including around NIS3 billion on the company level. We continue to deliver our balance sheet across the group, as we did during the past several years and the LTV decreased to 53.4%, compared to 55% in the second quarter of 2013.

Looking now to our business performance in the different regions, we see that our operation in North America continue to demonstrate positive momentum. In Canada, we continue to make progress in the development and redevelopment activity, including several large projects that will be completed in the coming years.

In addition, First Capital continued to strengthen its balance sheet, decrease the cost of debt, while recycling capital by selling non-core assets. The positive momentum of the U.S. market continued as well. Our portfolio in the U.S. went through a significant transformation in the recent years, and we continue looking for opportunity to upgrade its quality through capital recycling activity and through the development and redevelopment of our assets.

In the Nordic region, Citycon recently closed the specific €400 million equity issuance bringing CPPIB, the largest pension plan in Canada as a strategic investor in Citycon. As part of the transaction, Gazit invested €87 million and our current holding of the company now stands at 42%. CPPIB’s decision to invest in Citycon is a significant vote of confidence in our Group, in our investment strategy. As a result of these transactions, both Moody’s and S&P upgrade Citycon international credit rating to BBB.

In Central and Eastern Europe, Atrium continued to execute its long-term growth strategy, and year-to-date, completed the development of shopping centre in Lublin and started the redevelopment of Promenada, one of our flagship property in North São Paulo for a total amount of €45 million.

Atrium was then announced the capital recycling activity through the sale of land plots for €65 million, transaction that increases the company’s liquidity and allows its management to focus on the acquisition, development of a new urban properties, especially the main cities of Poland, Czech Republic and Slovakia. ProMed Properties in the U.S., the wholly owned subsidiary in the medical office building business recently sold 12 medical office buildings for around US$44 million, US$45 million.

ProMed’s current portfolio consists of four buildings, remaining buildings value at US$175 million. This transaction complements our exits from the senior housing business in 2012 and it’s a part of strategic process to focus on our global operation in the core business activity of shopping sector.

We entered the healthcare real estate sector in the U.S. over a decade ago. and over time, we enhanced and add a tremendous value to the portfolio, recycled capital, and attractive valuation, and deliver high returns. Grocery store opportunities in the current environment in Germany and subsequent to the quarter-end, we sold one property for €42 million and enter into agreement to sell two additional properties as well.

On the other hand, we’ve recently announced the plan acquisition of Top Center Shopping property in São Paulo, Brazil for around R$145 million, US$65 million. This high-quality urban property located for this revenue, which is considered to be the main business district in Brazil.

We also purchased an additional stake in one of our existing assets and increasing our year-to-date investment in Brazil to over R$200 million, not including the property under development more in the São Paulo with an estimate cost to complete of R$230 million in the next 24 months.

To summarize, our operational result reflect the positive momentum of our core global business activity and we’ve continued to execute our strategy to achieve the quality and the growth potential of our global portfolio. The G&A of our Group based on maintaining conservative and disciplined financial strategy to get over the nimble business approach. We will continue to strengthen our capital structure, it’s part of our vision to build the company for at least another year, while maintaining high transparency and delivering long-term value to our shareholder.

With that, I would like to turn over the call to Dori. Dori, please.

Dori Segal

Thank you, Roni and good day everybody. It is my questionable pleasure to discuss the only negative thing in our report today, which is the last in Dori Construction. For those of you who are not as aware of our Israeli investors, who Dori is, other than the fact that it’s similar to my name. Our business in Israel is brand to a company by the name of the Gazit development. We own 85% of this business together with the CEO of that business owns 15%. That company in turns own 73% in Dori’s Group, which is a company that includes some development business and energy project in the development, residential development company in Poland and that business also owns the Dori Group, owns 60% of the Israeli construction company by the name of Dori Construction.

This company had a fairly large loss of about NIS450 million. Gil will go over the numbers in a little bit more detail. in short, the loss included the restatement of its financial statements all the way back to last year, again, Gil will review it.

This is obviously a pretty serious event for that company, which we absolutely don’t take lightly that event call us by a total surprise, and we are dealing with it – through some financial assistant and helping as much as we can, the boards of these companies is the larger shareholder in the business with new management and so forth. It’s obvious that the first thing you want to do in those kinds of situation is find out what happened, that is a fairly larger construction business.

So as a result, I think what we try to do is responsibly and cold-headedly take – make sure this business is first they killed their clients, the people who buy those condos from these companies, the few hundred very devoted and dedicated employees of those companies, its suppliers, obviously some bond holders and financial institutions who work for these companies, and of course each shareholders. So far we’re getting good reaction from all the stakeholders to what – the steps the company is taking in order to restore and go back to a normal activity. Again, as we said here and again our local investors here in the market here in the most situation are a lot better and they said I think we got probably good comments on the way we’re dealing with it. We are calmly and professionally going to assist those companies to go back to normal activity.

The main focus in the last few weeks was to issue although in the last minute, but in a timely manner the financial statements of the Group, we’re busy with that. And other than that the focus over the next few weeks would be to complete the deal whereby these companies are going to get recapitalized, which is subject to a shareholder meeting which will take about September 28. And the Board of Dori Construction is looking into situation and trying to figure out exactly what happened and one thing I can assure you in a minute we will know exactly what happened there. You as our shareholders will know at the same time.

What I want to point out that situation caught us; well all our other businesses are probably in the best shape they have ever been. So in this sense it’s a good news or bad news. The total impact financially is really not that big, although from a management pension perspective and I would say – we could have done without it is probably there.

And before I’m going to hand over the call to Gil and then we’ll move to some questions. I just want to say couple of personal words that both Itay and myself and the whole management of Gazit-Globe always felt that we got a lot of trust and good report where the market is and we highly appreciate it, so in this event. And I personally always felt that we had and we deserved, actually I’m not sure we always had, but we definitely deserve a premium on the way we run our business and I still think so. And I understand in the last couple of weeks, so there are few weeks probably has not been a great support of that. But what I do promise you is we’re going to get very – work very hard sincerely to continue to earn that premium that we think we deserve, we deserve.

So that’s it, now let me get Gil to continue the call and then we’ll take your questions.

Gil Kotler

Thank you, Dori and good day everyone. I would like to start first with a few accounting comments regarding our public subsidiary of Dori Construction in the material deviation in the estimated costs and revenues and the influence of those losses on our financial results. As reported, the losses go big to the first quarter of 2012, and as a result, we restated some of the numbers presented here. Following the release of our financial result we will re-file the full financial report of our year-end 2013 in the first quarter of 2014. It is important to mention that Dori Construction business is different than the core for our operations and the restatements have no effect on our operational results including FFO, NOIs and same-property NOI.

I will start this operational highlight on Slide 10. Foreign exchange rate has matured impact on our results, but at a lower degree than previous quarters. Adjusting for foreign exchange rate, rental income and NOI, presented a modest increase resulting from the acquisition of new properties, development and re-development properties that came online and increasing same-property NOI, adjusted to the disposition of non-core properties. FFO and FFO per share increased by 16% and 8% respectively and by adjusting for the foreign exchange rate, the increase was higher at 22% and 16% respectively.

Turning to Slide 11. In the first six months of the area, we saw a similar trend with a decrease of 7% and 8% respectively in rental income in NOI, a decrease that is mainly driven by the effect of the foreign exchange rates. As FX adjusted NOI and rental income remain stable. FFO and FFO per share increased by 9% and 2% respectively and here as well the increase was higher with adjusting for the foreign exchange rate resulting at 17% and 11% respectively.

Turning to Slide 12. We continue to enhance our balance sheet and increase our available liquidity to a level of NIS10.9 billion or NIS12.1 billion together with Atrium. Approximately NIS3.1 billion of the liquidity is at the company level. Our pool of unencumbered assets summed to approximately NIS41 billion at the end of the quarter, excluding NIS8.1 billion at Atrium.

Turning to Slide 13. The change in fair value of investment property this quarter is mostly driven by the step up in value of the property sold by ProMed in the U.S., according to their selling prices and by an increasing value in Canada as a result of an increasing NOI while cap rate remained stable.

Turning to Slide 14. Investment properties increased by NIS0.3 billion from a property investment net of disposition, adjusted by a decrease of NIS0.7 billion as result of the New Israeli Shekel appreciation. Also including in this line item are properties held for sale which reached NIS2.4 billion and are mainly driven by the property sold by ProMed after the quarter end and the three properties in Germany as Roni has mentioned.

Interest bearing liabilities decreased by NIS1.1 billion driven by a decrease of NIS0.3 billion as a result of the New Israeli Shekel appreciation, as well as net principle payments. The NIS115 million decrease in shareholders equity is also a result of a New Israeli Shekel appreciation, which has a net decrease effect of NIS260 million. Average nominal interest rate decreased by approximately 30 basis points for the first six months of 2014.

Turning to Slide 15. We continue to increase our duration and spread our debt maturity schedule evenly over the years. During the quarter, we received a private long term loan in the amount of USD$100 million. On a consolidate level First Capital issued debt in the total amount of CAD$450 million with a nominal interest rate of 4.6% and average duration of 10.7 years.

With this we are happy to move to the Q&A. Darren, please.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) We will take our first question from Tavy Rosner from Barclays. Please go ahead, your line is open.

Tavy Rosner – Barclays Capital Israel

Thank you for taking my question. Roni you mentioned the business opportunities you saw in Germany and Brazil during the quarter. Going forward, can you give us some more color on the key opportunities you see for Gazit for the remaining of 2014?

Roni Soffer

Tavy, first of all as I mentioned the announcement of the new acquisition in Brazil, in Germany we announced, we sold one asset after the quarter and we signed to sell two other assets, as well just to clarify. I say this from – as I said in the last quarter as well, we still focus and try to build critical mass and try to take advantage without compromising the quality of the asset of course.

In Brazil, still in the last couple of quarter with a chill weather coming from Brazil, as I mentioned before, and we try to do as in this quarter, we upgrade to continue to invest in the region, we think definitely, this is a very interesting opportunity to us and we’re hoping to build critical mass especially in the city of São Paulo.

On the other opportunity we’re seeing, I think, the investment in Citycon and in general in Europe what we did last year where we bought – increase our stake in Atrium brought 5% from Apollo and this quarter we also invest €87 million, we still think in Europe we can see selective opportunity in all subsidiaries definitely taking advantage of those opportunity and we took advantage investing – the opportunity to invest in those company or in the company itself.

On the other front, of course, we’re always looking on the M&A side for where we have a team sitting in the U.S. with Chaim, our Chairman and we are always looking for new opportunities and globally. And this is one side, and together with the new business and the recycled capital, Atrium Promenada, Germany that we conducted this couple of weeks. we’re also working very hard to improve the cost of capital of the company, reducing the average coupon on the Group level and the company level without compromising the – extending the duration of our debt and also try to be more efficient on the G&A level, both on the company level, the Group level, the headquarter. There’s no question of the fact as we’ve been able to recycle capital and all the front of the Group and also on the level of the Gazit private sales, we’ve been able step by step to be more efficient on G&A, which is very important to us as well. And hope we answered your question.

Tavy Rosner – Barclays Capital Israel

Yes, thank you, it’s helpful. I just have a follow-up on the U. Dori side. I mean, you mentioned the actions you are taking to help the management besides what you announced the USD200 million loans, can we expect anything material on guide to financial for the second part of 2014, or whatever you guys mentioned is about all what we can expect?

Gil Kotler

Yes. So far we’ve announced everything we had to announce. The company hopefully wants everything gets approved. We’ll be in full operation. We’ll continue to monitor the situation. I would say that the way to look at it is very simply, if there’s going to have be any decision taking over the next sort of six months to a year, they’ll be over significantly lower magnitude, if at all.

Tavy Rosner – Barclays Capital Israel

Okay. Thank you, guys.

Roni Soffer

Thank you, Tavy Rosner.

Operator

Thank you. (Operator Instructions) We will take our next question from Cathy Schneidman from Citibank. Please go ahead, your line is open.

Cathy Schneidman – Citibank

Hi. First I would like to ask the question regarding Brazil. So the first one if you can please tell us more about the Top Center acquisition, and your plans for the center. We heard from our colleagues in Brazil that it’s an outdated property, but in a very good location. So I’m wondering if it’s a redevelopment project and what's the potential that you see there.

Roni Soffer

Okay. So first of all, I’d say, in Top Center what we like is three combination of; I see it as very strong quarter, the 1.5 million people on a daily basis going through this quarter. I think that from the offers about the outdated. so I think is why we’re in Brazil. the fact that we are twenty years lost in retail. I think that from our point view, we definitely, we look at it really more as the opportunity to try to improve the quality, not on this specific project, but in general and try to upgrade and what we say that to retail holders reinvent themselves.

So I believe in this project specifically, what we like in this project on top of what we say, which is amazing location, with a very, very strong demographic is the fact we believe that in the coming years, we’ll be able to improve the tenant mix and try to do what we used to do in our property through proactive asset management, try to improve really, the sale for the tenant is also right thing and what we say that eventually good things happen to good real estate. so I think this is definitely, one of those situations here.

Gil Kotler

And it’s a choice of having a pretty property in poor location, or a rundown property in a hell of a good location; I think it’s obvious where we land. I was just going to say that there is no significant big game changer at the moment. but as you already mentioned just good asset management, we’ll take a look at the areas where to the extent, there’s more opportunities and the locations will draw us to that property.

Roni Soffer

I mean if possible that other side we’ve seen this property right away.

Cathy Schneidman – Citibank

Okay, thank you. My second question is, if you can please tell us more about the M&A market in Brazil in the last couple of months, and if you are seeing more opportunities there?

Roni Soffer

We never really say anything on the future as you know, or by now, but I can tell there is definitely for the last 12 months, there were some changes, there were some global player got out of them from the market, because uncertainty, because the current depreciation, because really, it’s uncertainty on many, many levels. For example, GDP sold our stake in early on. But on the other front, there’s new players, or existing players want to like us to increase their stake in the market there. I think there’s – look that there’s opportunity, and in this case, CPPIB Board is back together with existing partners. So from ourselves, from the early days of disease, we’re always looking on the private label and the private is buying property, developing property, but we’re very capital market-oriented.

As I said before, the M&A team is definitely working globally and Brazil is definitely one of our targets. And with that, of course, is there something that we need to report, we’ll report it, but definitely, this is definitely very interesting environment for us right now comparing to the last couple of years.

Dori Segal

And as we’ve seen in Brazil, Cathy…

Cathy Schneidman – Citibank

Yes.

Dori Segal

Things may change. sorry, Cathy, right.

Cathy Schneidman – Citibank

Yes.

Dori Segal

The things may change there and perhaps a bit of a shorter notice than other markets that we are in. So I would say that we keep our ears open and our eyes open, that’s what I can comment really.

Cathy Schneidman – Citibank

Okay. Another question please regarding the situation in New Dori. I didn’t understand exactly how much do you plan to – I mean I understand you want to inject that NIS200 million, but how much in equity, how much in debt, and what are the terms?

Dori Segal

Okay. So to recap, we’ve already lent the Dori Group, NIS250 million by a way of a loan, which we have publicly said that we – through Dori Group, are ready to convert a half of that into equity, and said nothing about the other half of the NIS250 million, which means NIS125 million. We’ve also said that we’re ready to contribute another NIS130 million of straight equity at the top level, which is Dori Group. and to the extent, Dori Group completes a buy-out of Dori Construction bond, which I think outstanding, is about NIS80 million, that’s another very good amount. We will lend the Dori Group an additional NIS70 million on market terms.

That specific transaction is subject of the shareholder meeting on September 28, which seems like nobody would have a reason not to approve as the share – as the share capital is being bought by us at a premium to market to be more specific at the price of the stock, the evening before the announcement of the large lasted Dori Construction out here. So we expect that to get approved. And so far that’s what we’ve announced and that’s our plan for the near future that there is at the moment, no other plans discussed or announced.

Cathy Schneidman – Citibank

Okay. Just a quick follow up what are you expecting on this return? I mean why are you making this investment and not just writing off the losses?

Dori Segal

Well, the Dori Group is a subsidiary of Gazit in a market that has been our home market for the last 25 years. I think we see a lot of value in recapitalizing this business and bringing it back to action and we hope our recovery rates are going to be fairly high by bringing this business into action. and I think the one item that is probably harder to quantify is a reputation, we have done business in this country for the last 30 years, and I think it’s important that our reputation stays intact, so it has been so far. and if you look at the absolute amount in terms of organization, they don’t have a material impact on our operations, and equity, and liquidity and so forth.

The investors in this company are similar to our large investors in our business. The one thing that we have done to the recapitalization of these companies is we have converted part of the loans into perpetual note, which ride alongside with us has an option to buy stock at a fixed price, which is in turn also perpetual and the right to get interest on those particular notes, to the extent, those companies are back-end business with earning and distributing dividends.

So we have protected ourselves on the upside heaps and when our recapitalization bear fruit, and as I said, we hope that is going to turn into a good business, but I would absolutely say that our reputation in this particular market has been an important factor in our decision.

Cathy Schneidman – Citibank

Okay. thank you very much.

Roni Soffer

Thanks, Cathy.

Operator

Thank you. (Operator Instructions) There are no further questions in the phone queue at this time.

Roni Soffer

Okay. so thank you everyone for joining our second quarter results, looking forward to see you again, meet you again, on the third quarter around November. Thank you. Have a great day.

Operator

Thank you. That does conclude today’s conference call. Thank you for your participation, ladies and gentlemen. you may now disconnect.

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